F
Review of Estimate of Retail Price Equivalent Markup Factors

Vyas et al. (2000) of Argonne National Laboratory (ANL) compared their own markup factors to estimates developed by Energy and Environmental Analysis, Inc. (EEA) and Borroni-Bird. Two different markup factors were compared: (1) the markup over direct manufacturing (variable) costs for components produced in house and (2) the markup for components purchased fully manufactured from outside suppliers. In the ANL analysis, costs of manufacture include materials, assembly labor, and other manufacturing costs but not depreciation, amortization, warranty, or R&D and engineering (Table F.1). Other costs borne by the original equipment manufacturer (OEM) are corporate overhead, benefits (retirement and health care), and distribution, marketing, and dealer costs, including dealer profits.

Because the cost categories used by Borroni-Bird and EEA differed from those used by the ANL study, an exact comparison is not possible (Table F.2). While Vyas et al. (2000) concluded that the three sets of estimates were quite close, the different definitions cloud the issue. For example, Vyas et al. (2000) assumed that half of the costs—shown by Borroni-Bird as transportation/warranty; amortization and depreciation; engineering R&D, pension and health, advertising, and overhead—would be borne by the outside supplier. In their own estimates they allocate all warranty, R&D/engineering, and depreciation and amortization costs to the supplier. Clearly, even components purchased fully manufactured from a Tier 1 supplier will incur costs just for their engineering into the vehicle system and are likely to lead to some warranty costs beyond those covered by the supplier. Still, the bottom-line markup over variable manufacturing costs is very similar: 2.05 for the Borroni-Bird analysis versus 2.00 for the ANL analysis.

The Vyas et al. (2000) memorandum also summarized the cost methodology used by EEA, Inc., in a study for the Office of Technology Assessment (OTA, 1995), although it should be noted that the auto industry has undergone dramatic changes since that time, and the continued applicability of the methodology is debatable. Again, the cost categories differ, but the bottom-line markup over variable manufacturing costs is similar although a bit higher: 2.14 (Table F.3). To get an idea of the markup over outsourced component costs, the ANL analysts again assumed that the supplier would bear the costs of warranty, R&D engineering, and depreciation and amortization. Since EEA methods do not separate warranty costs from manufacturing overhead, Vyas et al. (2000) assumed that warranty costs made up half of the overhead costs. With those assumptions they obtained a markup factor of 100/(33.6 + 6.5 + 6.5 + 10.3/2 + 12.1) = 1.56. This leaves only a bit more than 5 percent of the total retail price equivalent (RPE) for the costs of integrating components into the overall vehicle design, assembly, and other OEM assembly costs.

The ANL memorandum concludes that all three sources would result in very similar markup factors (Table F.4). However, for markups over Tier 1 supplier costs, the ANL decision on how to allocate the costs has a lot to do with the similarities. A less generous allocation of warranty, assembly, and manufacturing overhead costs to suppliers would result in higher markup factors for outsourced components. Despite these ambiguities, the ANL comparison reasons that the markup for in-house-made components would be about twofold rather than the 1.5-fold markup for components purchased from Tier 1 suppliers.

A markup factor of 1.5 was used by NHTSA (DOT/NHTSA, 2009, p. 173) in its final fuel economy rule for 2011. A somewhat lower RPE markup factor of 1.4 was used by NRC (2002) and by S. Albu, assistant chief, Mobile Source Division, California Air Resources Board, in his presentation to the committee (Albu et al., 2008), while the EPA has used a markup of approximately 1.3 (EPA, 2008).

A markup of approximately 2 over the direct manufacturing cost of parts manufactured in house by an OEM was also supported by Bussmann in a presentation, “Study of industry-average markup factors used to estimate retail price equivalents (RPE),” to the committee on January 24, 2008. In that briefing, Bussman cited a 2003 study of the global automotive industry by McKinsey Global Institute, which came up with a markup factor of 2.08, and his own analysis



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F Review of Estimate of Retail Price Equivalent Markup Factors Vyas et al. (2000) of Argonne National Laboratory (ANL) costs is similar although a bit higher: 2.14 (Table F.3). To get compared their own markup factors to estimates developed an idea of the markup over outsourced component costs, the by Energy and Environmental Analysis, Inc. (EEA) and ANL analysts again assumed that the supplier would bear Borroni-Bird. Two different markup factors were compared: the costs of warranty, R&D engineering, and depreciation (1) the markup over direct manufacturing (variable) costs and amortization. Since EEA methods do not separate war- for components produced in house and (2) the markup for ranty costs from manufacturing overhead, Vyas et al. (2000) components purchased fully manufactured from outside assumed that warranty costs made up half of the overhead suppliers. In the ANL analysis, costs of manufacture include costs. With those assumptions they obtained a markup fac- materials, assembly labor, and other manufacturing costs but tor of 100/(33.6 + 6.5 + 6.5 + 10.3/2 + 12.1) = 1.56. This not depreciation, amortization, warranty, or R&D and engi- leaves only a bit more than 5 percent of the total retail price neering (Table F.1). Other costs borne by the original equip- equivalent (RPE) for the costs of integrating components ment manufacturer (OEM) are corporate overhead, benefits into the overall vehicle design, assembly, and other OEM (retirement and health care), and distribution, marketing, and assembly costs. dealer costs, including dealer profits. The ANL memorandum concludes that all three sources Because the cost categories used by Borroni-Bird and would result in very similar markup factors (Table F.4). EEA differed from those used by the ANL study, an exact However, for markups over Tier 1 supplier costs, the ANL comparison is not possible (Table F.2). While Vyas et al. decision on how to allocate the costs has a lot to do with the (2000) concluded that the three sets of estimates were quite similarities. A less generous allocation of warranty, assem- close, the different definitions cloud the issue. For example, bly, and manufacturing overhead costs to suppliers would Vyas et al. (2000) assumed that half of the costs—shown result in higher markup factors for outsourced components. by Borroni-Bird as transportation/warranty; amortization Despite these ambiguities, the ANL comparison reasons that and depreciation; engineering R&D, pension and health, the markup for in-house-made components would be about advertising, and overhead—would be borne by the outside twofold rather than the 1.5-fold markup for components supplier. In their own estimates they allocate all warranty, purchased from Tier 1 suppliers. R&D/engineering, and depreciation and amortization costs A markup factor of 1.5 was used by NHTSA (DOT/ to the supplier. Clearly, even components purchased fully NHTSA, 2009, p. 173) in its final fuel economy rule for manufactured from a Tier 1 supplier will incur costs just 2011. A somewhat lower RPE markup factor of 1.4 was for their engineering into the vehicle system and are likely used by NRC (2002) and by S. Albu, assistant chief, Mobile to lead to some warranty costs beyond those covered by the Source Division, California Air Resources Board, in his supplier. Still, the bottom-line markup over variable manu- presentation to the committee (Albu et al., 2008), while the facturing costs is very similar: 2.05 for the Borroni-Bird EPA has used a markup of approximately 1.3 (EPA, 2008). analysis versus 2.00 for the ANL analysis. A markup of approximately 2 over the direct manufac- The Vyas et al. (2000) memorandum also summarized the turing cost of parts manufactured in house by an OEM was cost methodology used by EEA, Inc., in a study for the Office also supported by Bussmann in a presentation, “Study of of Technology Assessment (OTA, 1995), although it should industry-average markup factors used to estimate retail price be noted that the auto industry has undergone dramatic equivalents (RPE),” to the committee on January 24, 2008. changes since that time, and the continued applicability of In that briefing, Bussman cited a 2003 study of the global the methodology is debatable. Again, the cost categories dif- automotive industry by McKinsey Global Institute, which fer, but the bottom-line markup over variable manufacturing came up with a markup factor of 2.08, and his own analysis 171

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172 ASSESSMENT OF FUEL ECONOMY TECHNOLOGIES FOR LIGHT-DUTY VEHICLES TABLE F.1 Components of Manufacturer’s Suggested Retail Price (MSRP) Equivalent RPE: ANL Method Cost Category Cost Contributor Relative to Cost of Vehicle Manufacture Share of MSRP (%) Vehicle manufacture Cost of manufacture 1.00 50.0 Production overhead Warranty 0.10 5.0 R&D engineering 0.13 6.5 Depreciation and amortization 0.11 5.5 Corporate overhead Corporate overhead, retirement, health 0.14 7.0 Selling Distribution, marketing, dealers 0.47 23.5 Sum of costs 1.95 97.5 Profit Profit 0.05 2.5 Total contribution to MSRP 2.00 100.0 SOURCE: Vyas et al. (2000). TABLE F.2 Components of MSRP: Estimated by Borroni-Bird Cost Category Cost Contributor Relative to Cost of Vehicle Manufacture Share of MSRP (%) Vehicle manufacture Materials 0.87 42.4 Labor, other manufacturing costs 0.13 6.3 Fixed cost Transportation and warranty 0.09 4.4 Fixed cost Amortization and depreciation, engineering R&D, 0.44 21.5 pension and health care, advertising, and overhead Selling Price discounts 0.10 4.9 Dealer markup 0.36 17.6 Sum of costs 1.99 97.1 Profit 0.06 2.9 MSRP 2.05 100.0 SOURCE: As reported by Vyas et al. (2000). TABLE F.3 Components of Retail Price Equivalent: EEA, Inc., Method Cost Category Cost Contributor Relative to Cost of Vehicle Manufacture Share of MSRP (%) Vehicle manufacture Division costs 0.72 33.6 Division overhead 0.14 6.5 Assembly labor and overhead 0.14 6.5 Overhead Manufacturing overhead 0.22 10.3 Amortized engineering, tooling, and facilities 0.26 12.1 Selling Dealer margin 0.49 22.9 Sum of costs 1.97 92.1 Profit 0.17 7.9 Total 2.14 100.0 SOURCE: EEA, Inc. (1995), as reported by Vyas et al. (2000). TABLE F.4 Comparison of Markup Factors Markup Factor for ANL Borroni-Bird EEA In-house components 2.00 2.05 2.14 Outsourced components 1.50 1.56 1.56 SOURCE: Vyas et al. (2000).

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173 APPENDIX F of Chrysler data for 2003-2004, which produced factors of on the complexity of the part and the costs of integrating it 1.96-1.97. Since these markup factors apply to direct manu- into the vehicle system. Marketing, distribution, and dealer facturing costs, they are consistent with the estimates shown costs are multiplicative and add 25 percent to the OEM costs in Table F.4. Lyons (2008) used a markup factor of approxi- (Figure F.1). mately 2.0 but was not specific about the cost components included in the estimate to which this factor was applied. RFELow = SupplierCostLow (1 + 0.20 + 0.08) + 0.05 = Information supplied to the committee in the presenta- 1.35(1.28) + 0.05 = 1.78 (2) tion by Duleep on January 25, 2008, implies higher markup RFEHigh = SupplierCostHigh (1 + 0.20 + 0.08) + 0.15 = factors (Duleep, 2008). Assuming a reference cost of 1.00 1.45(1.28) + 0.15 = 2.10 for the variable factors used to produce a component (mate- rial, labor, energy, factory overhead), EEA calculates the The resulting markup ranges are 2.22 to 2.51 for the Tier 1 supplier cost by applying multiplicative markups for markup over variable costs (corresponding to the ANL supplier overhead and profit and an additive factor of 0.1 to “vehicle manufacturing” costs) and 1.65 to 1.73 for the 0.2 for tooling, facilities, and engineering (Table F.5). The markup over Tier 1 supplier costs (corresponding to the range is intended to reflect the complexity of the component ANL cost of outsourced components). The full breakdown and the engineering effort required of the supplier to ensure of EEA markup estimates is shown in Table F.5. The mark- its integration into the full vehicle system. Representing the ups are comparable to those proposed by Vyas et al. (2000) variable costs by X, the total supplier price markup is given but higher by a meaningful amount, as shown in Figure F.2. by equation 1: In a note, EEA-ICF, Inc., argues that higher supplier amor- tized costs are generally associated with lower OEM am - SupplierRPELow = X(1 + 0.20 + 0.05) + 0.10 = ortized costs for any give™n part. However, this assertion 1.00(1.25) + 0.10 = 1.35 was not applied here to develop the range of markup factors (1) SupplierRPEHigh = X(1 + 0.20 + 0.05) + 0.20 = based on EEA data. 1.00(1.25) + 0.20 = 1.45 Average RPE factors can be inferred by costing out all the components of a vehicle, summing them to estimate OEM In the EEA method, OEM costs include amortization of Tier 1 costs or fully burdened in-house manufacturing costs, tooling, facilities and engineering, and overhead, profit and and then dividing the sum into the selling price of the vehicle. selling costs, which include marketing, distribution, and The committee contracted with IBIS Associates (2008) to dealer costs. EEA assumes an average manufacturer profit conduct such an analysis for two popular vehicles: (1) the of 8 percent, somewhat higher than the 5 percent assumed by Honda Accord sedan and (2) the Ford F-150 pickup truck. ANL and the 6 percent assumed by Borroni-Bird. Amortized Current model year (2009) designs and base model trim costs vary from 5 percent to 15 percent, again depending levels (no nonstandard options) were chosen. Base models TABLE F.5 Fuel Economy Technology Cost Markup Factors Item Cost Low Cost High Share Low % Share High % Supplier costs Factors (materials, labor, energy, factory overhead) 1.00 1.00 45 40 Supplier overhead 0.20 0.20 9 8 Supplier profit 0.05 0.05 2 2 Amortization of tooling + facilities + engineering 0.10 0.20 4 8 Supplier subtotal 1.35 1.45 61 58 Supplier markup 1.35 1.45 OEM costs OEM overhead 0.20 0.20 12 12 OEM profit 0.08 0.08 5 5 Tooling + facilities + engineering amortization 0.05 0.15 2 6 OEM subtotal 1.78 2.01 80 80 OEM markup 1.32 1.38 Marketing, transport, dealer markup 0.25 0.25 20 20 Total 2.22 2.51 100 100 RPE markup (over factors) 2.22 2.51 RPE markup (over supplier price) 1.65 1.73 SOURCE: EEA-ICF, Inc., as reported by Duleep in his presentation to the committee on January 25, 2008.

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174 ASSESSMENT OF FUEL ECONOMY TECHNOLOGIES FOR LIGHT-DUTY VEHICLES 60% 50.0% 48.0%49.0% 50% ANL EEA Chrysler Percent of RPE 40% 30% 26.0% 24.0% 23.5%22.9%22.5% 22.1% 20% 8.0% 10% 2.5% 2.5% 0% Manufacturing OEM OH, Profit Selling Cost Costs Amortization & Depr. FIGURE F.1 Components of retail price equivalent (RPE) markup. SOURCE: Duleep (2008). Figure F-1.eps 3.00 Low High ANL B-B 2.51 2.50 2.22 2.05 Multiplicative Markup 2.00 2.00 1.73 1.65 1.56 1.50 1.50 1.00 0.50 0.00 Over Tier 1 Price Over Factors FIGURE F.2 Comparison of Duleep (2008) high/low, Argonne National Laboratory (ANL), and Borroni-Bird (B-B) cost markup factors. Figure F-2.eps were chosen to reduce the influence of market pricing deci- 1.49 to MSRP. The multiplier to dealer invoice cost is 1.35, sions not driven by manufacturing costs. which means that dealer costs, including profit, amount to Cost estimates were developed for subcomponents in about 4 percent of manufacturing costs, not considering any terms of costs paid by OEMs for automotive components dealer incentives offered by OEMs. and subsystems in five broad systems. Although many of the The base 2009 Ford F-150s are two-door XL Regular Cab components are manufactured in house, the costs of these Styleside short-bed, rear-wheel-drive pickups produced in components were estimated using the fixed or indirect manu- Dearborn, Michigan, and Kansas City, Missouri. The curb facturing costs normally borne by a Tier 1 supplier. Results weight of the vehicle is 4,743 lb, with a standard V8, 4.6-L, for the base Honda Accord are shown in Table F.6. The base single overhead valve engine and a four-speed automatic vehicles are the four-door LX sedans produced in Marysville, transmission. The truck has a stamped steel body on frame Ohio, and Lincoln, Alabama. The curb weight of this vehicle construction. Dealer invoice cost for the F-150 is $20,055, is 3,230 lb, with a V6, 3.0-L, dual overhead cam engine, a MSRP is $21,565, and the average market transaction price five-speed manual transmission, and a stamped steel unibody is $21,344. The cost of all components plus assembly is with a lightweight aluminum subframe. Dealer invoice cost $14,940, as shown in Table F.7. This means an RPE multiplier for the Accord is $18,830, MSRP is $20,755, and the average of 1.52 for market price and 1.54 for MSRP. The markup fac- market transaction price is $19,370. The cost of all compo- tor for the dealer invoice is 1.43, so that dealer costs and profit nents plus assembly costs is estimated to be $14,564. This amount to about 9 percent of total manufacturing costs, not results in multipliers of 1.39 to market transaction price and including any possible OEM incentives to dealers.

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175 APPENDIX F TABLE F.6 Cost Breakdown of Base 2009 Honda Accord LX Accord LX Base 2009 Mass (kg) Cost ($) Detail Power train 609 6,677 Engine 206 2,782 I4 2.4 DOHC AL/AL Battery 20 58 Lead-acid, standard Fuel storage and delivery 86 388 Gasoline, 18.5 gal Transmission 70 621 Manual, 5-speed Thermal management 23 150 Driveshaft/axle 84 1,189 Differential 26 203 Cradle 25 161 Aluminum Exhaust system 34 300 Oil and grease 15 25 Power train electronics 10 400 Emission control electronics 10 400 Body 451 2,234 Body-in-white 307 1,006 Midsize steel unibody Panels 60 197 Stamped steel midsize Front/rear bumpers 10 30 Sheet steel Glass 40 250 Conventional, 4 mm Paint 12 450 Solvent-borne, average color Exterior trim 10 50 Hardware 10 226 Seals and NVH control 2 24 Chassis 181 1,643 Corner suspension 30 217 Lightweight Braking system 46 404 ABS Alloy 16″ Wheels and tires 80 472 Steering system 26 549 Interior 151 2,156 Instrument panel 24 110 Trim and insulation 22 429 Door modules 25 220 Seating and restraints 60 1,122 HVAC 20 275 Electrical 33 1,250 Interior electrical 11 500 Chassis electrical 11 500 Exterior electrical 11 250 Total components 1,426 13,959 Final assembly 40 605 Interior to body 5 140 Chassis to body 10 90 Power train to body 10 90 Electronics to body 5 80 Other systems to body 10 205 Total manufacturing 1,466 14,564 NOTE: DOHC, double overhead cam shaft; HVAC, heating, air conditioning, cooling; NVH, noise, vibration and, harshness; and ABS, automatic braking system. SOURCE: IBIS (2009). BIBLIOGRAPHY DOT/NHTSA (U.S. Department of Transportation/National Highway Traf - fic Safety Administration). 2009. Average Fuel Economy Standards, Albu, S., California Air Resources Board. 2008. ARB perspective on vehicle Passenger Cars and Light Trucks, Model Year 2001: Final Rule. 49 CFR technology costs for reducing greenhouse gas emissions. Presentation to Parts 523, 531, 533, 534, 536, and 537, Docket No. NHTSA-2009-0062, the National Research Council Committee on Technologies for Improv- RIN 2127-AK29. DOT/NHTSA, Washington, D.C. March 23. ing Light-Duty Vehicle Fuel Economy on January 24. Duleep, K.G. 2008. Analysis of technology cost and retail price. Presenta - Bussmann, W.V., and M.J. Whinihan. 2009. The Estimation of Impacts on tion to the National Research Council Committee on Technologies for Retail Prices of Regulations: A Critique of Automobile Industry Retail Improving Light-Duty Vehicle Fuel Economy, January 24. Price Equivalent and Indirect Cost Multipliers. Prepared for the Alliance of Automobile Manufacturers, Southfield, Mich. May 6.

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176 ASSESSMENT OF FUEL ECONOMY TECHNOLOGIES FOR LIGHT-DUTY VEHICLES TABLE F.7 Cost Breakdown of Base 2009 F-150 F-150 Pickup XL Base Mass (kg) Cost ($) Detail Power train 922 7,666 Engine 308 3,971 V8 4.6 L SOHC CI/AL Battery 29 84 Lead-acid, standard Fuel storage and delivery 102 440 Gasoline, 25 gal Transmission 118 1,068 Auto 4 pickup truck Thermal management 45 150 Driveshaft/axle 150 608 Pickup truck 2WD steel Differential 37 116 Light truck Cradle 25 103 Hydroformed steel Exhaust system 68 300 Oil and grease 15 25 Power train electronics 10 400 Emission control electronics 16 40 Body 672 2,258 Body-in-white 500 1,020 Pickup truck body on frame Panels 55 177 Stamped steel pickup truck Front/rear bumpers 20 60 Medium truck Glass 51 250 Paint 12 450 Solvent-borne, average color Exterior trim 12 50 Hardware 13 226 Seals and NVH control 10 24 Chassis 348 1,719 Corner suspension 119 413 Pickup truck 2WD Braking system 79 520 Light truck ABS 4-wheel Wheels and tires 105 334 Steel 17” Steering system 44 453 Pickup truck Interior 128 1,570 Instrument panel 24 100 Trim and insulation 28 350 Door modules 22 156 Seating and restraints 40 820 HVAC 15 144 Electrical 27 832 Interior electrical 7 232 Chassis electrical 10 400 Exterior electrical 10 200 Total components 2,098 14,045 Final assembly 52 905 Interior to body 10 200 Chassis to body 10 150 Power train to body 10 150 Electronics to body 10 100 Other systems to body 10 305 Total manufacturing 2,150 14,950 NOTE: SOHC, single overhead camshaft. SOURCE: IBIS (2008). EPA (U.S. Environmental Protection Agency). 2008. EPA Staff Techni- Committee on Assessment of Technologies for Improving Light-Duty cal Report: Cost and Effectiveness Estimates of Technologies Used Vehicle Fuel Economy, January 24. to Reduce Light-Duty Vehicle Carbon Dioxide Emissions. EPA420- NRC (National Research Council). 2002. Effectiveness and Impact of Cor- R-08-008. Ann Arbor, Mich. porate Average Fuel Economy (CAFE) Standards. National Academy IBIS Associates, Inc., Waltham, Mass. 2008. Data Collection and Analysis: Press, Washington, D.C. Vehicle Systems Costs. Report to the National Research Council Com- OTA (Office of Technology Assessment). 1995. Advanced Automotive mittee on Assessment of Technologies for Improving Light-Duty Vehicle Technology: Visions of a Super-Efficient Family Car. OTA-ETI-638. Fuel Economy. December. Washington, D.C. Lyons, J.M., Sierra Research, Inc. 2008. Technology and retail price impli - Vyas, A., D. Santini, and R. Cuenca. 2000. Comparison of Indirect Cost cations of HR6 CAFE standards based on vehicle simulation modeling Multipliers for Vehicle Manufacturing. Center for Transportation Re- (preliminary results). Presentation to the National Research Council search, Argonne National Laboratory. Argonne, Ill. April.